Technicians Turn Bullish

I mentioned last week that I believed we were due for a rally lasting 4-7 days, and a move 5-7% higher.

The WSJ Ahead of the Tape column discusses some of the reasons many Technicians are starting to turn Bullish — whether its for a trade or something longer lasting. Last Tuesday was an “Outside reversal” day, something pointed out by several traders in the article.

I do not blithely dismiss technicals the way many value or fundamental managers do. But I do want to see statistical evidence that there is some validity there. Recall that our prior look at technical signals like the Death Cross and the Hindenberg Omen pointed out they were less reliable than a random coin toss. Some explanation as to causation helps, so we know we are not confusing mere correlation as well.

Which brings us to an Outside Reversal day. I understand the thinking behind the Japanese Candlestick charts, but I have been unable to find any data that shows the reliability of this day historically.

The technical data points that support a rally here include:

• Divergences between NYSE New 52 Week Lows and Market lows — NYSE is making less New lows while the S&P isn’t, a positive divergence.

• % of NYSE Stocks above their 200-Day Moving Averages — about 15%, up from 7%. When in this range, stocks tend to eventually rally. Note they slipped from 15% over a few months to 1% in March 2009 — so its hardly a precise timing tool.

• VIX: The spike last week to 45 suggests excessive fear (Caveats abound for this indicator also, which hit 48 on August 8)

• 90/10 days — several downside 90/10 days in volume and breadth help washout sellers, albeit somewhat temporarily these days. At the very least, the 90/10 days imply a short term rally.

The bailouts in Europe, the German pledge to protect European banks, the Merkel and Sarkozy pledge for bank recapitalization, are just as likely a cause of today’s lift as the technicals.

But to me, the real key is going to be the next few quarters of earnings. If we see a move off of the recent peak as the economy softens, it suggests stocks are priced dearly. If earning can maintain their strength, then stocks are cheap here.

Previously:
Worry About Important Things — Not The Death Cross (August 16th, 2011)